When most people think of annuities, they think of the more common variable annuity. However, variable annuities are far from the only annuity product out there; I'll detail a few others that might appeal to your investing appetite.
But first, a little on the variable annuity. The thought of investing in these vehicles may seem daunting or complicated to most people, but it is really very similar to investing in a company-sponsored retirement plan such as a 401(k) or IRA.
A variable annuity is a contract between you and the insurance company in which you receive periodic payments according to the changing market value of the underlying investment. More importantly, these payments can continue for the rest of your life.
This can protect retirees from the ever-increasing chance that they will outlive their assets.
You should consider investing in variable annuities only after exhausting the limits allowed in your 401(k) and IRA. And before you consider this option, you should understand how they differ from those common investment instruments.
First, there are no limits on the amount of money you can contribute to a variable annuity. Second, all money you contribute to a variable annuity is after taxes.
But most important, variable annuities have an insurance component not found in other types of retirement investments. This can make the annuity more attractive if you need and want the insurance. But it can also be less attractive if you don't.
Variable annuities also allow you to manage your funds as you choose by selecting the mutual fund investments that suit your personal risk tolerance and wealth-building priorities.
Unlike money you invest in a fixed annuity or a whole-life insurance policy, variable annuities are managed by an investment company using mutual fund "subaccounts" that are kept separate from the insurer's other assets. Therefore, your funds are not subject to claims by its creditors should the company become insolvent.
So that's the variable annuity. Here are four comparable investment vehicles that might be right for you depending on your investment goals and objectives.
The insurance company also guarantees that the periodic payments will be a guaranteed amount per dollar in your account. These periodic payments may last for a definite period, such as 20 years, or an indefinite period, such as your lifetime or the lifetimes of you and your spouse.
Fixed annuities guarantee a minimum rate of interest during the time your account is growing. They are also very low risk in that you are not directly affected by market fluctuations, compared with variable annuities, which can be risky depending on the underlying mutual funds you select.
The insurance company providing the fixed annuity also guarantees that the periodic payments will be a set amount per dollar in your account. These periodic payments may last for a definite period, such as 20 years, or an indefinite period, such as your lifetime or the lifetime of you and your spouse.
If you're not a fan of actively managing your own investments, fixed annuities have a definite advantage. The guaranteed minimum annual returns give you peace of mind, and provided you're with a strong insurer, your deferred investment is going to grow each year.
With an equity-indexed annuity, during the accumulation period, when you make either a lump payment or a series of payments, you are credited with a return that is based on changes in an equity index, such as the
The provider typically guarantees a minimum return, the rates of which vary. After the accumulation period, the insurance company will make periodic payments to you under the terms of your contract, unless you choose to receive your contract value in a lump sum.
The most obvious advantage of equity-index annuities is the guaranteed minimum annual return. This safety net has led at least one analyst to call equity-indexed annuities a "variable annuity with training wheels."
Variable Life Insurance
Variable life insurance gives you the ability to invest the cash value of your policy into various mutual fund subaccounts offered by the insurance company. This can allow your cash value to grow more quickly so that your insurance policy can be paid up sooner.
You can usually switch your investment between funds with a phone call (typically limited to 12 free trades per year). And because you are using subaccounts, the cash value of your policy is not at risk in the event of a failure. The life insurance portion, however, is.
But remember: A variable life policy is a life insurance policy -- not a retirement savings vehicle like annuities. Therefore, the overall costs are going to be higher in order to pay for the insurance coverage you have purchased.
Variable Universal Life Insurance
This allows you to vary the amount of your annual premium contribution or suspend it altogether. As a result, the cash value and amount of insurance coverage will fluctuate, depending on the adequacy of your premium payments.
Depending on your level of stock market expertise and risk tolerance, you may find variable annuities to be just the thing. And if the concept of variable annuity investing sounds attractive but you lack the time or inclination to get personally involved, you may want to consider hiring a financial planner or money manager to handle things for you.
If variable annuities sound too risky, a fixed annuity or equity-indexed annuity will probably suit you better. Just don't forget to periodically monitor the financial safety of the issuing insurance company. Otherwise, you're taking unnecessary chances with your retirement nest egg.
Whatever you do, always shop around and compare one investment to another. There's absolutely no reason to incur high costs or suffer with poor returns when there are plenty of good alternatives out there.
Melanie Dufour joined TSC Ratings as a life and health insurance analyst in February 2006. She has an actuarial background with a BS degree in Actuarial Mathematics and Finance from Concordia University in Montreal, QC. Melanie has most recently worked as an actuarial analyst with Aequicap Insurance Company in Ft. Lauderdale, FL and prior to that as a senior analyst with Watson Wyatt Worldwide in Montreal, QC.